The Internal Revenue Service (IRS) recently issued a private letter ruling, PLR 201833012 (PLR) that has generated interest among employers about student loan benefit programs. An IRS official at a recent conference, however, cautioned practitioners to read the PLR because the scope of the PLR is more narrow than what some headlines may have led people to believe. In particular, the PLR did not allow employers to authorize distributions from 401(k) plans to allow employees to repay their student loans. Instead, the PLR allowed an employer to make nonelective contributions to the company’s 401(k) plan on behalf of employees who were paying off student loan debt. To receive that benefit, the employees were required to opt out of receiving the normal matching contribution. In other words, the plan that was the subject of the PLR was quite unique. While it is encouraging to see the IRS support innovative plan designs that provide a benefit that employees value, it is important to understand what the PLR addressed and what it did not address before employers create their own plans. Specifically, the PLR held only that this benefit did not violate the contingent benefit rule. The PLR did not address other practical questions that employers will need to resolve before implementing their own similar program. We describe these items below.
An employer has to show that the availability of the benefit and the amount of the benefit being provided does not disproportionately favor highly compensated employees. Presumably, the workers who would be making student loan repayments would be young and not highly compensated employees. Depending on the industry, however, an employer could have a mix of highly compensated and non-highly compensated employees participating in this program. Highly compensated employees have the ability to repay their student loans more quickly than non-highly compensated employees and therefore potentially could receive more of these non-elective contributions. The PLR did not explain how coverage and nondiscrimination testing would apply or whether exceptions could be made to the rules to prevent student loan repayment contributions from causing plan testing failures.
Another question the PLR did not address is whether an employer must verify that the employees actually repaid their student loans, and if so, how extensive are the substantiation requirements. Would asking the employees to provide copies of bank statements be sufficient? Alternatively, should employers require direct proof of payment from student loan providers or arrange for direct payment of student loan payments through an employer’s payroll system? Those last two approaches could be quite burdensome.
The PLR did not address whether a plan could make a student loan repayment contribution conditional upon an employee refinancing his or her existing student loans.
Employers may decide that because of the issues described above, they will want a third party administrator to assist with administration of the loan program. Issues that arise in student loan repayments include deferment, loan forgiveness, payment restructuring and refinancing, and defaults. Is the employer confident that the administrator can address these issues? Do the service provider agreements address these issues?
Safe harbor questions
Safe harbor 401(k) plans are not subject to the complex nondiscrimination testing of traditional 401(k) plans. The PLR did not address how a plan in which an employee opts out of receiving matching contributions would work in the context of a safe harbor plan. Unless the IRS were to create an exception, an employer that sponsors a safe harbor plan may need to structure its student loan benefit in a different way from the one that was subject to the PLR.
Replacement vs. additional benefit
Somewhat related to the point above is that the plan at issue under the PLR essentially replaced matching contributions for another type of employer contribution. Employers may want to consider whether to leave the matching contribution allocation terms in their 401(k) plans unchanged and instead offer an additional nonelective contribution that is based on student loan repayments.
Our impression is that while the PLR has sparked interest in a student loan benefit plan, until the IRS provides more guidance on these issues, employers remain hesitant to implement this type of plan. Industry groups have begun asking the IRS to provide this guidance. The ERISA Industry Committee has already asked the IRS to issue a more generally applicable revenue ruling to provide employers the confidence to implement similar programs. Once we have guidance, this type of feature could be a great way to attract younger employees, but for now, it may still be premature.